Come Out Come Out Wherever You Are

Posted by jeff

Wed Sep 23rd, 2009 09:23 AM

Share |

Sorry to have been so unproductive lately. I have been taking care of some personal business that will hopefully be settled soon and I will be able to get back to a more normal writing schedule. Just a few observations today.....with unfortunately not much statistical back-up to refer to.

Jim Grant of Grant's Interest Rate Observer wrote an essay in the Weekend Journal last weekend that I found noteworthy precisely because, as the author put it, he is "Not famously a glass half-full kind of fellow." He was being kind. Grant is usually downright downbeat, as well he should be, being a seer of all things related to interest rates and therefore by definition an armchair dismal scientist (economist). Grant's essay can be boiled down to its subtitle "The deeper the slump, the zippier the recovery." The bottom line being that throughout American history, not only have we experienced more profound downturns than the one we have just been through, but even following policy errors the economy has bounced back. In fact it has bounced back more strongly, the sharper the downturn. The exception being the Great Depression, when several policy mistakes were made accompanied by the "dust bowl" climate aberration, when the economy was very significantly leveraged to agriculture.

I'm a contrarian, but the problem with being a contrarian is that you have to identify what the consensus thinks or is doing in order to do the opposite. In this case I do believe that Grant has a non-consensus opinion, although looking at the stock market one might think that everyone believes him and is betting stocks to beat the band in their effort to sing from the same hymnal.

I was recently privileged to hear stock market strategist Jason Trennert of Strategas Research Partners speak at the C.L. King "Best Ideas" conference in New York City. Trennert noted in his talk entitled "Bullish Till the Bill Comes Due" that both anecdotal and statistical evidence from folks suggests that John Q. Public has been a buyer of bonds and foreign equities, not the U.S. stock market, and his hedge fund clients have in no way embraced this rally with passion. Trennert also noted that the average rally during the Japanese lost decade was 61% (7 different bear-killing episodes). He also recounted how the mid-Depression rally from 1933 to 1937 was a 372% gusher. In keeping with Grant's piece Trennert also noted that despite an unimpressive contraction in real GDP of 2.2% in the latest recession (several recessions in the last 100 years exceeded 3% on the downside), government stimulus, both fiscal and monetary, totalling 29.9% of GDP is off the charts vs. even the monster 8.3% spent from 1929 to 1933. All of this argues for more upside to both the economy and the current bull market.

Unfortunately, my buddy Stan Weinstein reports that mutual fund managers are reported to have spent down much of their cash chasing the recent rally. That datapoint, however, is practically the only one is his monthly "Weight of the Evidence" indicators that is flashing even a yellow light. Away from mutual fund cash, technically the market is signalling all systems go and Stan advises that pullbacks will be controlled and met with buying by those who are still looking for opportunities to get in.

I personally am wary that the market has gone from trading 20% below its 200-day moving average to 20% above it, i.e., the easy money has been made, folks - take a victory lap if you were buying when everyone else was panicking. Yet I am still tantalized by the prospect that the bear case, which everyone can now quote chapter and verse, could be wrong.

Let's review:

The consumer is 70% of the economy.

The consumer's greatest asset is their home and home prices have nowhere to go but down.

High unemployment has everyone scared to death and those who can spend are loath to, while the overlevered majority is having to kick up their savings rate and cannot spend.

Due to structural issues with the economy....the U.S. no longer produces anything anyone wants.....employment will be very slow to come back.

The bull case is a painstakingly slow recovery if the residential and commercial real estate debacles don't yet drag us back into a deflationary spiral. Our economy is doomed and our dollar is worthless so buy gold.

If the economy somehow gets up any head of steam it will be due to over-stimulation which will cause mega inflation, so buy gold.

I learned long ago on Wall Street that whenever the crowd can easly articulate the bull case for a stock, the stock had probably had its run. Likewise, whenever everybody was wise to the short story on a stock, it was probably near its bottom. For this reason I constantly question the accepted facts. So I was delighted to read Business Week's recent analysis "Reconsidering Consumers' Impact on the U.S. Economy." In the articles the author showed the GDP accounts where the 70% of GDP comes from. Here is the breakdown:



The articles points out that each one of the categories above includes very significant items that are not paid for directly by consumers, are partially paid for by the government or employers, or are simply econometric creations like "non-farm owners' equivalent rent." Their estimate of direct consumer spending as a percentage of the economy is 40%. Recently I read some additional work, which I can't put my hands on this minute, implying that....as with most data....the over-levered consumer balance sheet is not, as the averages would have you believe, incredibly pervasive, but rather more a product of a minority who are deathly over-levered and a majority who are in much better shape. I will revisit some of the other assumptions in the consensus view of the economy in upcoming pieces as well as my personal conspiracy theory that some of the driving technologies that will help turn around the U.S. economy longer-term are actually being kept quiet and for good reason (no I have not gone totally batty). I'm not telling anyone to run out and buy stocks on margin, nor am I pretending that this economy and the American nation doesn't have a long row to hoe. But get out from under your desks folks.....enough already. There is a decent chance that we have seen the worst part of this recession, both stocks and businesses may be able to succeed and flourish in the environment of the next decade, and it's time to start thinking more about how to make that happen. And by the way, if you're about to have a baby, have survived this long in your job and have 20% to put down on a property, it's okay to start trauling for some values in the New York City real estate market. Just don't expect to get rich on New York real estate any time soon.